––– a weblog focusing on fixed income financial markets, and disconnects within them

Friday, December 20, 2013

Richmond's Eminent Domain Program: It Could Really Happen

Richmond, California’s
plan to use eminent domain to free city homeowners from underwater mortgages
took a number of steps forward recently. Until this month, I would have given
very long odds against Richmond actually going ahead with the plan, but now I would
place the chances at close to 50/50.

The first development
occurred last week in Washington with the Senate’s confirmation of Melvin Watt
as Director of the Federal Home Finance Agency – which regulates Freddie Mac
and Fannie Mae. Under Acting Director Ed
DeMarco, the agency had suggested it might prevent GSE financing in Richmond if
the city moved forward with its plan to seize properties under the guise of eminent
domain. The threat of not being able to get a Fannie or Freddie insured
mortgage would have inflamed local opposition to the program. But, given Watt’s
more progressive orientation, I doubt that he will continue DeMarco’s
resistance. I suspect Watt is much more likely to look at the situation through
the “little people vs. big banks” lens than his predecessor – whose career was
devoted to the health of the home financing market.

The other developments occurred
Tuesday night at the City Council meeting, the video of which is available here
(most of the relevant discussion can be found between the 3 hour and 6 hour
marks). Mayor Gayle McLaughlin proposed
and won passage of a motion that fine-tuned the program in a couple of
important ways.

First, her measure
imposed guidelines limiting the eminent domain program to mortgages below the
conforming loan limit (now $729,750) and in struggling neighborhoods. This
change addresses a revelation first made here at ExpectedLoss
and later picked up in a WSJ
blog and by the San
Francisco Chronicle: that the program would have benefitted owners of some
very expensive properties in affluent neighborhoods.

Second, the McLaughlin
proposal calls for the eminent domain power to be exercised by a “Joint Powers
Authority” rather than by the city itself. As reported
by the Chronicle’s Carolyn Said, this change allows the eminent domain action to
be approved by only a simple majority vote – rather than a super-majority as
previously required. There appear to now be three solid “no” votes out of the
seven officials who vote on the Council, so the need for a super majority
appeared to be a deal breaker. McLaughlin
should be able to hold onto the four votes necessary to create the JPA and
implement the eminent domain program.

But the JPA device
imposes a new challenge: another city would have to agree to participate in the
JPA. Although McLaughlin and her supporters listed a number of potential
partners in California and elsewhere, none of these cities have gone as far down
the eminent domain path as has Richmond. Indeed, it is possible that none of
these cities will ever get beyond the talking stage. This assessment applies
especially to San Francisco – a city whose skyrocketing home prices have left
few mortgages underwater.

A more likely
candidate, El Monte, will need to be careful. The city declared a fiscal
emergency in 2012 and some of its bonds carry non-investment
grade ratings. Richmond has already been punished
by the municipal bond market despite its superior fundamentals; it’s hard to
see how a lesser credit like El Monte will attract investors if it goes ahead
with eminent domain.

So the need to get a
partner is a significant barrier – but not an insurmountable one. Undoubtedly,
the ambitious folks at Mortgage Resolution Partners are very hard at work finding
Richmond a mate. Of course, the path to finally condemning mortgages leads
through the courthouse. Whether Richmond can prevail, with a very unusual
interpretation of the takings clause, against a battalion of well-financed Wall
Street lawyers is another bet entirely.